Three-peat pass: Q4 GDP misses expectations at 2.6%

Ed MorrisseyPosted at 10:41 am on January 26, 2018

As Donald Trump hailed the revitalized American economy at the World Economic Forum in Davos, the Bureau of Economic Analysis delivered a minor disappointment. Despite expectations that the US would have a three-peat of 3.0% GDP growth in Q4, the actual level of annualized expansion in the final stanza of 2017 came in at 2.6% — respectable, and enough to beat 2016’s annual performance by a wide margin:

Real gross domestic product (GDP) increased at an annual rate of 2.6 percent in the fourth quarter of 2017 (table 1), according to the “advance” estimate released by the Bureau of Economic Analysis. In the third quarter, real GDP increased 3.2 percent. …

The increase in real GDP in the fourth quarter reflected positive contributions from personal consumption expenditures (PCE), nonresidential fixed investment, exports, residential fixed investment, state and local government spending, and federal government spending that were partly offset by a negative contribution from private inventory investment. Imports, which are a subtraction in the calculation of GDP, increased (table 2).

The deceleration in real GDP growth in the fourth quarter reflected a downturn in private inventory investment that was partly offset by accelerations in PCE, exports, nonresidential fixed investment, state and local government spending, and federal government spending, and an upturn in residential fixed investment. Imports, which are a subtraction in the calculation of GDP, turned up.

There are still plenty of good signs even without getting the psychological hat trick on breaking the 3% barrier three quarters in a row. Personal consumption expenditures (PCEs) roared in Q4, increasing 3.8% in its best quarter since 2016Q2. A massive increase in imports dented the overall GDP report, jumping 13.9% for the fastest increase in years, but American exports did well too. They went up 6.9%, with exported goods rising 12.6% for its best performance in years. Government spending increased across the board in Q4 too, especially in defense, a trend to watch in 2018.

Also, final sales of domestic product — the level after the impact of inventory management — outpaced overall GDP at 3.2%. That might indicate that the US economy had an overabundance of inventory in Q4, left over from the previous two quarters of >3% annualized GDP growth. The same indicator had trailed overall GDP in Q2 (2.9% to 3.1%) and in Q3 especially (2.4% to 3.2%), which might indicate that the lag in Q4 is mainly attributable to rebalancing on inventory and that the momentum remains with the US economy.

The economy grew 2.3 percent in 2017, an acceleration from the 1.5 percent logged in 2016. Economists expect annual GDP growth will hit the government’s 3 percent target this year, spurred in part by a weak dollar, rising oil prices and strengthening global economy. …

The burst in consumer spending was satiated with imports, which grew at a 13.9 percent pace in the fourth quarter, the fastest since the third quarter of 2010, offsetting a rise in exports, which is being driven by dollar weakness. Imports subtract from GDP growth.

As a result, trade subtracted 1.13 percentage points from GDP growth last quarter, the most in a year, after adding 0.36 percentage point in the third quarter. Inventory investment also restrained GDP growth in the fourth quarter, subtracting 0.67 percentage point from output after adding 0.79 percentage point to output in the prior period.

For all of 2017, the economy grew 2.3 percent. That is a significant improvement from a 1.5 percent gain in 2016 but little changed from the modest 2.2 percent average growth rate turned in since the Great Recession ended.

Economists are looking for even better growth this year, propelled by the $1.5 trillion tax cut that President Donald Trump pushed through Congress in December. The Trump administration contends that its economic program of tax cuts, deregulation and tougher enforcement of trade laws will lift economic growth to sustained rates of 3 percent or better in coming years. In the 8 1/2 years of the current recovery, the growth rate has averaged 2.2 percent, the weakest expansion since the end of World War II.

Trump has said his tax plan will serve as “rocket fuel” for the economy by prompting Americans to spend more and businesses to step up investment.

In order to make the tax reform package work, Trump needs to get a lot better performance out of the economy than 2.3% in the next two years especially. Republicans will need to show a roaring economy to paper over Trump’s low approval rates in the midterms, but structurally the tax reform package relies on >3% growth in the long term to avoid expanding deficits. The GOP will have to eventually put entitlement reform into play to deal with long-term structural deficits — there’s no other way to address them — but they will need a strong and stable economy in order to help make that sale to skittish voters.

This report doesn’t show “rocket fuel,” but it does still show the US hitting the accelerator.